Funding for Start-Ups Tapped Out? 5 Things to Know

It’s a cruel paradox. Social networks and crowd-funding sites now empower entrepreneurs. Smart ideas, innovative concepts and creative inventions are more plentiful than ever. Yet in a time of unbounded promise, capital to fund them remains elusive for most entrepreneurs. Which means one thing: many great ideas go unfunded.

According to a recent survey by the National Small Business Association, 43 percent of small business respondents said that in the last four years they needed capital, but could not find it. One in three small businesses reported that their loans or lines of credit were reduced. One in ten had their loans or lines of credit called back by the bank.

I’m in the business of helping entrepreneurs succeed. Many times throughout my career I’ve seen outstanding business ideas fail due to a lack of planning and funding. So if there’s one message I can offer, it’s this: entrepreneurs, small business owners, and CEOs must understand the options for accessing capital and plan accordingly.

Here are the realities entrepreneurs must understand:

No new sources of capital have emerged. How small businesses finance themselves has not changed: They tap personal assets, friends and family, angel investors, venture capital funds, and banks. The structure of these financing mechanisms has remained unchanged for decades. The constraints that these sources place on small business capital formation are well documented.

Traditionalsources are increasingly difficult to tap. Self-funding is strained in an economy of shrinking savings and battered home values. Friends and family – the most common source of equity capital — are suffering the same economic realities as entrepreneurs. Banks’ shifting risk profiles led to reduced business loan exposure following the financial crisis, with higher risk early stage businesses the first to be jettisoned. Angels and VC’s, who only provide 1 percent of funding, are capitalizing fewer deals and are focused on narrow industry sectors like technology.

Capital available through first-generation crowdfunding is limited. Raising capital online by soliciting crowds of strangers can seem quite appealing. But current laws prevent contributors from receiving a financial return on their “donation,” narrowing the audience to contributors uninterested in earning returns on their investments. Two thirds of traditional crowdfunding campaigns (donation or rewards-based) raised less than $5,000 each. While difficult to size, the US crowdfunding market in 2012 was certainly less than $1 billion – a mere sliver of the $300 billion investment capital raised by startups.

The cavalry has not arrived. While the government has extolled the power of small businesses to create jobs and claimed election-year headlines with 2012’s JOBS Act, the steps to release capital for small businesses are on a slow track due to bureaucratic inaction.

Accredited crowdfunding will flourish while small businesses await investment crowdfunding. Accredited crowdfunding platforms are already raising capital from the small percent of investors who qualify to participate. Accredited crowdfunding platforms will expand the menu of investments available to qualified investors and extend the reach for businesses seeking funds. Increasing acceptance of accredited crowdfunding may clear the way for regulators to finalize their regulations for investment crowdfunding, freeing new sources of capital for small businesses.

I don’t want you to walk away feeling discouraged. You just need to know that the environment is tough. But there’s good reason to be optimistic, too.

We may be entering the Golden Age of the Entrepreneur. The Internet, portable technologies, the development of social media, and a culture that values entrepreneurs will be greeted by a long overdue economic recovery and the debut of Investment Crowdfunding. With Investment Crowdfunding ordinary individuals can invest in small businesses, breaking down the barriers to capital raising that small businesses have faced.

Because Investment Crowdfunding depends on entrepreneurs generating enthusiasm for their opportunity with the crowd, start-up companies should start preparing now.

As the lending environment begins to loosen, businesses that can anticipate funding needs and take preparatory steps now will be first in line to secure funds. Business owners should take advantage of social networking to raise awareness, but also to develop networks and communities that will rally around their ideas when the time is right. Time is one of the most valuable commodities when it comes to new ideas and inventions, and savvy business owners will use the next year to engage in market research, product development, and begin to create networks and relationships that will catapult them to the front of the funding line when funding is finally available.

Brad McGee is a founding partner of iCrowd. iCrowd is an investment crowdfunding platform that connects individual investors with entrepreneurs. Prior to forming iCrowd, Mr. McGee served as the Executive Vice President and Chief Strategy Officer of Tyco International Ltd. Mr. McGee also co-founded Seigel & Associates – an executive search firm – and is a founding member of Quantum Associates.

Mr. McGee holds a BSSE, with distinction, from the U.S. Naval Academy and MBA from the Harvard Business School.